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A McDonald's in a Toronto, Ontario, Canada Wal-Mart store. Note the maple leaf on the Golden Arches. (Photo credit: Wikipedia)

While McDonald’s posted gains of more than 40% in 2011, its performance has been lackluster in 2012 so far. The stock has lost close to 5% in 2012 compared to the S&P 500 index, which has gained more than 10%. The news that CEO Jim Skinner will end his tenure in June 2012 has also created some uncertainty about the company's future. However, given the company’s strong fundamentals, we believe the stock has a good case for at least for some modest upside. McDonald’s competes with Yum! Brands, Subway, Starbucks, Wendy’s, Chipotle Mexican Grill, among many others.

McDonald’s restaurants worldwide are either franchised or company-operated. More than 80% of the 33,000 restaurants worldwide are franchised. In conventional franchised restaurants, McDonald’s owns the land and the franchisee pays the company rent as well as loyalty charges, which is usually a percentage of sales. This is in contrast to a developmental license, where the franchisee owns the land and pays McDonald’s loyalty as a percentage of sales. Both modes of franchising require low capital investments from McDonald’s and ensure healthy revenue generation.

The proportion of franchised restaurants, as a percentage of total restaurants, has been rising in recent years. In addition to the low upfront investment, franchised stores offer higher margins to McDonald’s, with EBITDA margins of more than 85%.

McDonald’s has been successful in constantly adding new items to its menu. Outside the U.S., the company ensures that it introduces menu items suited to local tastes. It has also been proactive in adapting its business strategy to changing market conditions. In Asia, for example, where real estate is relatively more expensive (in terms of sales per square foot), the company has introduced home delivery, something which is absent elsewhere.

Moreover, with its premium offerings under the McCafe brand, it now directly competes with the likes of Starbucks and Dunkin’ Donuts. The company successfully launched Fruit & Nut Oatmeal in 2011 and now plans to launch bakery items such as muffins, cheese danish and banana bread.

With its plans to refurbish existing restaurants, the company plans to align itself with more upscale or casual dining restaurants. These efforts have been paying off too, as the company posted better-than-expected comparable sales growth of 11.1% in the U.S. in January. Furthermore, with 89% of its outlets in the U.S. open by 5 a.m. and 40% open 24/7, the company ensures it keeps receiving more traffic.

3) Global Investments

McDonald’s plans to spend $2.9 billion on capital expenditures in 2012, half of which will be used to open another 1,300 new restaurants with a greater focus on India, China and Eastern Europe. It might seem as though McDonald’s is ubiquitous if you reside in the U.S. but its penetration is still very low in many geographies. Bosnia and Herzegovina, for example, saw their first McDonald’s open in 2011. In India, the company plans to double the number of restaurants to 500 by the end of 2014. It plans to encourage franchising in China, as only 36 of its 1,400 restaurants there are franchised currently. So all of these regions offer plenty of opportunities for expansion.